Even though IBM (currently trading at $282.09 per share) has gained 12.7% over the last six months, it has lagged the S&P 500’s 18.8% return during that period. This may have investors wondering how to approach the situation.
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We’re swiping left on IBM for now. Here are three reasons we avoid IBM and a stock we’d rather own.
Reviewing a company’s long-term sales performance reveals insights into its quality. Any business can put up a good quarter or two, but the best consistently grow over the long haul. Unfortunately, IBM struggled to consistently increase demand as its $64.04 billion of sales for the trailing 12 months was close to its revenue five years ago. This wasn’t a great result and signals it’s a lower quality business.
Analyzing the long-term change in earnings per share (EPS) shows whether a company’s incremental sales were profitable – for example, revenue could be inflated through excessive spending on advertising and promotions.
IBM’s EPS grew at a weak 3.3% compounded annual growth rate over the last five years. On the bright side, this performance was better than its flat revenue and tells us management responded to softer demand by adapting its cost structure.
Growth gives us insight into a company’s long-term potential, but how capital-efficient was that growth? Enter ROIC, a metric showing how much operating profit a company generates relative to the money it has raised (debt and equity).
IBM historically did a mediocre job investing in profitable growth initiatives. Its five-year average ROIC was 11.5%, somewhat low compared to the best business services companies that consistently pump out 25%+.
IBM’s business quality ultimately falls short of our standards. With its shares underperforming the market lately, the stock trades at 24.9× forward P/E (or $282.09 per share). Beauty is in the eye of the beholder, but our analysis shows the upside isn’t great compared to the potential downside. We’re pretty confident there are more exciting stocks to buy at the moment. Let us point you toward a safe-and-steady industrials business benefiting from an upgrade cycle.
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